01 December 2006

National Bank Q4 2006 Earnings

TD Newcrest, 1 December 2006


NA reported operating EPS of $1.31, ahead of our estimate and consensus of $1.27, up from $1.25 in Q3/05 and $1.10 in Q4/05. Overall, results were solid. We believe NA has again provided shareholder’s earnings growth, as a well as a higher dividend, yet the stock trades at a meaningful valuation discount.


Neutral. We are maintaining our BUY recommendation and 2007 EPS estimate of $5.60, and we are introducing our 2008 EPS estimate of $6.00. Our target price of $71.00 remains unchanged.


Solid retail results, with net income of $124mm (in line with our estimate), and up from $112mm a year ago.

• Margins improved 1 bps sequentially to 2.90%, an impressive result given strong growth in lower margin partnership loans. The bank clearly is benefiting from the strength of its Quebec-based franchise, and management noted that it is more focused on margins than volumes at present.

• In this context, asset growth was satisfactory at 6%. Personal loans were the biggest contributor, up 15% year over year.

• Credit losses and operating expenses for the group were well contained. Wealth management results were below our expectations, with net income of $29mm below our estimate of $36mm, mainly due to a slow down in new issue revenues. We also highlight, that results included non-recurring expenses of $3.4 million related to the launch of the new Altamira Meritage product. AUM growth was good, up 10% year over year.

Financial Market earnings clearly outperformed with net income of $75mm up 50% year over year, but likely unsustainable. Trading revenues of $118mm were strong, and compare with a seven quarter average of $86mm. Equity trading was particularly strong. Securities gains of $36mm were up year over year from $7mm, but down from $43mm last quarter, and reflected the sale of several merchant banking positions.

Credit was well controlled, with provisions for credit losses of $23 million,which although up from $16 million sequentially is still low and reflects the benign credit environment. GIL’s of $234 million were up slightly sequentially, but down meaningfully from $260 million a year ago.

Formations of $40 million were up from $35 million in Q4/05 and reflected higher formation in the personal and commercial books.

Tier 1 capital increased to 9.9% from 9.4% at July 31, 2006. We continue to highlight that management have been the most aggressive within the group at returning capital to shareholders (when both dividends and share buybacks are considered), with management returning 75% (per our calculation) of operating earnings to shareholders during 2006. As expected both the dividend and the payout ratio were also increased and 600k shares were repurchased during the quarter.

Justification of Target Price

Our $71.00 NA target price is a product of adding 50% of the $71.51 value derived from our 2007 P/E valuation of 13.3 times to 50% of the $71.71 value derived from our 2007 price-to-book valuation of 2.88 times.

Key Risks to Target Price – Overall Risk Rating: Low

We believe that the four key valuation risks specific to NA that may prevent the stock from attaining our target price are: a) Unfavorable interest rate movements; b) Quebec sovereignty (we view this with a low probability); c) Lack of scale and financial flexibility; and d) Irrational pricing behavior from non-public competitor Desjardins.

Investment Conclusion

NA reported a satisfactory quarter, with solid retail earnings and exceptionally strong trading revenues. Sure, trading revenues are not as stable as banking, and a discount is deserved for these earnings. As well, the bias against Quebec-based companies also hurts valuation, but NA has been consistently delivering solid and improving results, yet it continues to trade at a 1.8 multiple point discount to the larger capitalization banks. We believe this discount is excessive.

Case in point, consider NA versus Bank of Montreal. NA grew its retail earnings 9% in 2006, whereas BMO’s domestic retail earnings growth was flat, and we harbor concern that 2007 will continue to be difficult as BMO tries to change its retail banking culture. Offering roughly the same dividend payout ratio, BMO is trading at 1.7 times multiple point premium.

We do not believe that NA is getting the respect it deserves, particularly given the increased quarterly dividend and payout ratio, and management’s track record of returning capital to shareholders. We believe the stock continues to be very attractive at these levels, particularly to value investors that appreciate reasonable, consistent growth. We maintain our Buy on the stock and $71.00 target price.
newratings, 1 December 2006

Analysts at UBS reiterate their "neutral" rating on National Bank of Canada. The target price has been raised from C$67.00 to C$68.50.

In a research note published this morning, the analysts mention that the company has reported its 4Q06 core FD-EPS ahead of the estimates and consensus. The results benefited from a dividend trade of approximately C$40 million in trading income taxed at a low rate, the analysts say. Although the profits were boosted by trading & securities gains, the core domestic P&C trends have grew at a modest pace while wealth management growth slowed down, UBS adds. The company has raised its payout guidance for 2007 from 35%-40% to 40%-50%, the analysts say.
• BMO Capital Markets maintained National Bank at Outperform with a target price of $70.00.

• Blackmont Capital maintained National Bank at Hold.

• Desjardins Securities maintained National Bank at Hold, and raised the target price from $67.50 to $68.00.

• RBC Capital Markets maintained National Bank at Outperform, the target price is $72.00.
The Globe and Mail, Andrew Willis, 1 December 2006

In the great debate over what to do with excess capital, National Bank of Canada has come down on the side of giving cash back to shareholders.

As it announced an annual profit of $871-million, a company record, National announced that it was boosting its quarterly dividend. The payout jumped by 4 cents to 54 cents a share. More important, National, based in Montreal, boosted its target dividend payout range to 40 to 50 per cent of retained earnings, from 35 to 45 per cent.

The move comes after Bank of Montreal recently shifted its payout to an industry-leading maximum of 55 per cent, and highlights the different approaches that the big banks take to excess capital.

When National's $309-million share repurchase plan is added to the dividend payouts, the bank handed back 68 per cent of its earnings to shareholders.

National is increasing payouts at a time when investors are flocking to dividend-paying stocks such as banks as an alternative to income trusts, which lost their lustre in the wake of the federal government's decision to tax trust distributions. Canadian bank stocks have all rallied in the wake of the government's Oct. 31 tax policy shift.

All the banks are carrying more capital than they need to back their operations, and one of major differences between the institutions is what they do with these retained earnings. Toronto-Dominion Bank and Royal Bank of Canada have spent some of their extra capital on U.S. retail expansion and Bank of Nova Scotia is acquiring in South America. In contrast, National and Bank of Montreal are making dividend increases the centrepiece of their strategies, and Canadian Imperial Bank of Commerce is expected to do the same when it announces its results next week.

Analysts see the rosy results and National's willingness to commit to the long-term obligation of higher dividends as bullish indicators for the sector. "Half the banks have now reported, and we've seen each give guidance for 2007 earnings that exceeds what the Street is forecast for next year," said Robert Wessel, bank analyst at National Bank Financial Inc. In a presentation yesterday, National forecast earnings per share will rise by 5 to 10 per cent in 2007.

National's diluted earnings per share in the fourth quarter were $1.31, up 9 per cent from the same period last year. Analysts surveyed by Thomson Financial forecast earnings of $1.25. For the year, the bank's earnings per share hit $5.13, up 5 per cent from 2005. "It's been a great year for us, and we're going to work damn hard to repeat this performance next year," said RĂ©al Raymond, National's president and chief executive officer. NA fell 40 cents to $63.40.
Report on Business Television, 30 November 2006

Click here for the ROBTv video clip, of Pierre Fitzgibbon (CFO, National Bank) speaking about National Bank's Q4 2006 Earnings.
Bloomberg, Sean B. Pasternak, 30 November 2006

National Bank of Canada, the country's sixth-biggest bank, said fourth-quarter profit climbed 6.2 percent because of higher investment-banking fees.

Net income for the period ended Oct. 31 rose to C$220 million ($193 million), or C$1.31 a share, from C$207 million, or C$1.20 a share, a year earlier, the Montreal-based bank said today in a statement. That topped the C$1.23-a-share median estimate of nine analysts polled by Bloomberg News.

Investment banking earnings surged 44 percent to C$75 million after the bank advised on mergers worth almost $2 billion in the quarter, triple the amount a year ago, according to data compiled by Bloomberg. The value of mergers in Canada has soared to a record this year, led by mining and oil and gas companies.

``The capital markets business for National Bank has been a big contributor to several quarters of very good results,'' UBS Canada analyst Jason Bilodeau said in an interview. ``The question there becomes how sustainable is this level of earnings generation?''

Consumer banking earnings rose 13 percent to C$124 million, boosted by higher lending and mortgages, while asset management earnings climbed 12 percent to C$29 million, National Bank said.

Shares of National Bank fell 40 cents to C$63.40 at 4:26 p.m. in trading on the Toronto Stock Exchange.

The bank also boosted its quarterly dividend by 8 percent to 54 cents a share. It's the fourth time the bank has increased its quarterly payout in two years. The bank also said today it will increase its dividend payout range to between 40 percent and 50 percent of profit, from the previous 35 percent to 45 percent.

The bank set aside C$22 million for soured loans in the quarter, down from C$25 million a year ago. The bank expects provisions to next year from the C$77 million it set aside in fiscal 2006.

``I think its impossible,'' to reduce credit loss provisions further, chief financial officer Pierre Fitzgibbon said today in a telephone interview. ``The question now is, how high will it go?''